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Thursday, March 20, 2014

Gold & Silver Stocks Breakdown Alert

Briefly: In our opinion short speculative positions in silver (half) and mining stocks (full) are justified from the risk/reward perspective.

The dollar’s rally and the precious metals’ decline were seen right after comments from the Fed about the planned $10 billion cut in asset purchases. They will now amount to “only” $55 billion per month.

The dollar’s rally and the precious metals’ decline had been already seen in the charts and the Fed comments served as a catalyst.

Let’s see how much has actually changed (charts courtesy of http://stockcharts.com):

Gold moved lower once again but still not low enough to break below the rising support line. Gold is still outperforming silver and mining stocks (taking this month into account), but now the extent of the outperformance is much smaller. Still, with the situation in Ukraine still being tense, gold might hold up relatively well even if the rest of the precious metals sector declines.

At this time we see that gold’s reaction to the events in Ukraine has been very limited. When markets don’t react to factors that should make them move in a certain direction, they will likely move in the opposite direction relatively soon. In this case, it seems that gold will move lower.

The move below the rising support line (marked in red) could symbolize the start of another big downleg regardless of the geopolitical tensions. For now, the price of gold is already close to this support, but not yet below it.

Silver’s decline was not as big as the one that we saw in gold but in today’s pre-market trading silver is once again declining more visibly than gold is. It seems that the decline will accelerate after the breakdown below the long-term rising support lines, and then accelerate further as silver moves below its 2013 low.

Yesterday, we wrote the following:

The miners‘ invalidation of the move above the 61.8% Fibonacci retracement level resulted in further declines, as expected. The GDX ETF hasn’t moved below the rising support line, though, which means that the situation hasn’t become more bearish as far as short term is concerned. It was bearish and still is, but it’s not really more bearish.

For mining stocks, however, the rising support line is much closer than it is the case with gold. If miners break below it (and they likely will), gold might follow.

The GDX ETF is now visibly below the rising support line and also closed below the 50% retracement, which are both bearish factors. We generally wait for a breakdown to be confirmed before opening or adding to short positions, but...

We saw a big downswing also in the HUI Index and it resulted in a major sell signal from the Stochastic indicator. In the past 3 years all cases (and many cases before 2011) when we saw this signal were followed by major downswings.

Perhaps the GDX ETF’s move below the rising support line is not confirmed yet, and we would normally not take action based on it, but combined with the major sell signal for the HUI Index and the Stochastic indicator, that seems justified.

Before summarizing, let’s take a look at the currencies.

We previously wrote that the Euro Index was likely to decline based on the long-term resistance line being reached and that the precious metals were likely to decline significantly based on that – and they have.

The same goes for the situation in the USD Index. The U.S. currency was about to rally and it finally did. It took only one day to erase the declines of many previous days. Back in 2013 an analogous rally was even bigger, so it might be the case that the rally is not over just yet. In fact, we think the USD Index has much further to go.

All in all, we can summarize the current situation in the precious metals market in the same way we have been summarizing it for the last couple of days:

It seems that the precious metals sector will move lower in the coming weeks, but just in case the situation in Ukraine deteriorates, we are keeping half of the long-term investment position in gold. In fact, gold has been outperforming both silver and mining stocks since Russian troops entered Crimea.

At this time however, the technical picture for mining stocks has deteriorated significantly, and thus in our opinion adding to the currently opened short position in mining stocks is justified from the risk/reward perspective.

It seems to us that if it weren’t for the events in Ukraine, the precious metals sector would be already declining and perhaps testing the 2013 lows or moving below them. This could still take place and it’s quite likely to happen once the situation in Ukraine stabilizes.

Long-term capital (our opinion): Half position in gold, no positions in silver, platinum and mining stocks. Insurance capital (our opinion): Full position

You will find details on our thoughts on gold portfolio structuring in the Key Insights section on our website.

As always, we'll keep our subscribers updated should our views on the market change. We will continue to send them our Gold & Silver Trading Alerts on each trading day and we will send additional ones whenever appropriate. If you'd like to receive them, please subscribe today.